CRUDE OIL TO FALL IN THE SHORT TERM

Bold call. As with any bold call, the risk of me falling on my face and looking stupid are pretty good.

I have been not bearish on oil until today. A couple of days ago, we had oil fall $10. Big move. Everyone was thinking that this is another great opportunity before oil hit $150, $170, $200. Easy money? Well sorta. We made a new high of $147. But during this whole time oil felt frail. You can sense it on The Street, on CNBC, and through the movement of the tickers. Now today, we had the largest dollar drop in oil in almost 2 decades.

I can't recall of a time when such a strong and large movement in a parabolic uptrend did not signal (at least a temporary) change in sentiment.

The oil trade is very crowded. Speculation now makes up 70+% of volume verses some 30% a couple years back. Maybe we're short on oil contracts and not barrels of oil? The amount of dollars going into crude oil futures has gone up many, many folds from mutual funds. The gargantuan increase is similar to the tech bubble. By this I mean, the parabolic rise in capital allocated to asset class. When the inflow stops and only sellers are left, there will be a stampede out of oil. We saw a small version of this today, with oil falling $2 in 1 minute.

For the first time in a long time, the refiners Valero (VLO) and Tesoro (TSO) rallied. This tells me something. VLO is completely pitiful with a net income margin of 0.09% and TSO is in the same boat. Along with the airlines, these companies have the most to gain from the fall of oil. For those who are unfamiliar with the situation. The refiners are the middlemen between crude oil and your gasoline. They have no pricing power in this environment so they need oil to fall.

How about a contrarian indicator. Big Oil, like Exxon, is closing down about 2000 gas stations because the profit margins of are so poor. When the big guys give in, this may be the capitulation the market needs. The way of the world, you close down shop at the peak of the pain. I won't buy the argument that XOM has a their finger on the pulse and knows to well to close at the top. XOM has under performed almost ever oil company out there. They spend billions of dollars buying oil at spot prices. They seem to be as much of a consumer of oil as me and you.

Now lets look at the supply/demand aspect. The expansion in oil prices can be summed up, by many, as the world demanding 86 million barrels of oil and we can only supply 85 million per day. Crude is a stable so we can bump up the price without a negative impact on volume. More specifically, growth in China and India will not stop and oil prices will keep climbing. Brazil and Russian are not the problem: they have plenty of their own oil.

Now the U.S uses 21 million, China uses 8, and India uses about 5. If all of a sudden U.S. uses 20.25, China uses 7.5, and India 7.75, we now have a 500,000 barrel/day surplus. Random numbers? Sorta. Firstly, I don't believe anyone can predict the future with much accuracy- even the smartest economist have a 50/50 track record.

EIA estimate thats because fuel prices, the U.S. now uses about 500,000 barrels per day.

Time for some math (simple algebra): 70% of U.S. demand is trasportation (diesel, gasoline, and jet fuel) related. That's 14.7 millions barrels. Looking at the airlines, truck drivers (YRCW), and commuters, a 5% decrease in demand is very viable, if not already present. 5% of that is already 735,000 barrels. I'm not even guessing about the other 30% but I doubt that demand has grown.

Now, all accounts show that China is still growing just a little bit slower. Some say its the earthquake, some don't believe in decoupling (I believe in the opposite, bonding of world economies- we've seen this many times), and others the high interest rates in China. To boot, Chinese stock market has fallen over 50%- eliminating billions in wealth. China is definitely slowing down just a little bit. Lastly, I want to add the near 20% price increase the Chinese government passed onto gas prices. 20% spike in prices overnight will affect demand.

Tomorrow, China reports CPI. Should be educating.

The OIL UltraShort would be a very aggressive way to play this. Current price is 32.59